Question
An oil producer is afraid of a price decline. In August, he anticipates he will sell his August production in September. His production is 1,000
An oil producer is afraid of a price decline. In August, he anticipates he will sell his August production in September. His production is 1,000 barrels a day for 25 days. The cash price in August is $20 per barrel, and October futures are quoted in August at $20.10 per barrel.
To hedge his position, he sells 25 October futures (each contract is for 1,000 barrels, so this represents his August production of 25,000 barrels) at $20.10, which locks in a value of his inventory equivalent to $502,500 ($20.10 per barrel times 25,000 barrels.) Along comes September 15, and the price of crude falls in the cash market by $2 per barrel.He sells his product in the cash market to the refinery for the current price of $18.He buys back his futures contract for the new price of $18.
- How much revenue did he generate from selling the actual oil?
- How much net revenue did he generate from his two futures trades?
- So, what was his total revenue?
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